Most people on lower incomes support socialism

Market economy beats socialism

Collectivizing or nationalizing large corporations - is that a good idea? Some think so. What has made socialism fail time and again.

An interview with a young SPD politician sparked a heated debate on socialism. Some SPD leaders such as ex-party leader Sigmar Gabriel and works council members have rejected Kevin Kühnert's bold proposals for the "collectivization" of large companies. It seems paradoxical that, in the 30th year after the fall of the Berlin Wall, the merits of collective ownership are being seriously discussed in Germany.

Democracy and market economy outlived autocracy and planned economy. In November 1989 the wall fell, the GDR was economically and politically at an end. German reunification came in October 1990. Most of the former Soviet republics have also abandoned the planned economy. Democracy is lived in free elections, and people enjoy many amenities of the social market economy that the planned economy would not have allowed them. Since China, although still politically allowed a dictatorship, more and more private property and entrepreneurship, the gigantic empire has seen a gigantic history of growth. Economists see secure private property rights as one of the most important prerequisites for prosperity and growth. Empirical studies confirm this connection.

Sure, things are not going well. Income inequality has risen in many European and other countries since the beginning of the 1980s, and the high national debt of many European countries made radical consolidation policies necessary. But even the critics are happy to take many of the achievements of the market economy system for granted: In supermarkets there is an unprecedented variety of offers from all over the world at relatively low prices. Technical inventions like the smartphone are revolutionizing our communication and society as a whole; everyone has the Internet in their pocket. Just get on a plane and travel the world, almost every citizen can do that. The market economy has enabled an unprecedented increase in prosperity and technical civilization.

We enjoy a wide range of products that technological progress is constantly improving because companies have to compete for innovations and customers. Competition between companies ensures that the prices of goods do not skyrocket. Monopolists, such as the socialist state enterprises used to be, can charge higher prices and do not have to offer good products; they have market power and can thus pull money out of people's pockets. There are still a few examples of socialist economies with arrogant leaders: North Korea and Venezuela are the saddest cases. Both countries show how bad the economic situation of the population is. The development in Venezuela is particularly appalling, as the oil-rich country was the wealthiest economy in South America for many decades. In the meantime, there is a threat of collapse.

The Kühnert push gives rise to a renewed fundamental debate about market economy and socialist economic systems. In the market economy, all market participants have an incentive to make an effort and they are liable for their economic actions. After all, entrepreneurs know that when they take high risks, if they succeed, they are the sole beneficiary and make a profit. However, if a project fails, you have to live with the consequences and suffer losses. The prospect of profit is an incentive, the liability principle is disciplined. This does not apply under socialism and even if property rights are not clearly regulated. The incentives and responsibilities are much lower. The entrepreneur's ambition to move forward brings a lot with it from which others also benefit. Jobs are created. The state collects tax revenues and social security contributions that can be used to redistribute to low-income citizens. The social market economy combines economic freedom "with social progress that is secured precisely by economic performance", as Alfred Müller-Armack put it.

But social equilibrium is only possible if prosperity is created beforehand. In fact, almost 50 percent of income taxes in Germany are borne by the top 10 percent of income earners. Globally, too, overall tax revenues and income redistribution are higher in democratic countries than in autocracies (Berthold and Gründler: Inequality, Social Mobility and Redistribution, Kohlhammer, 2017). It is often forgotten that a large part of the welfare state is financed by the market economy system.

In Germany we were able to experience the failure of the socialist planned economy first hand. The GDR failed, just as its protecting power, the Soviet Union, collapsed. There were three main problems of the planned economies, which were mutually reinforcing: In addition to the incentive and motivation problems, there are above all the lack of coordination and innovation. Without prices that describe the relative scarcity of goods, the bureaucratic central planner lacks the crucial information. The market price of a good is the result of a combination of innumerable individual decisions and combines the benefits of all households from the consumption of the good and the profits of all companies in the production and sale of the good. The state does not even have a fraction of this information, wastes resources and over-plans when it is needed. Ludwig von Mises recognized this fundamental problem of socialism almost a hundred years ago, and Friedrich von Hayek expanded the analysis of the knowledge problem.

The state-owned companies are also not innovative enough; they all too often make losses and produce goods of poor quality. The history of the GDR shows how often economic plans went wrong and had to be corrected again and again. A comparison of the Trabant with a VW Golf in the eighties showed how far behind the technical development. Inefficient state-owned companies that were constantly making losses were not closed - there was a "soft budget constraint" (János Kornai) under socialism. The deficits of the planned economy were financed in the eighties by debts to the "class enemy" (billions in loans from the Federal Republic); In the autumn of 1989, the chairman of the Central Planning Commission, Gerhard Schürer, presented the SED leadership with a relentless analysis: only a 25 to 30 percent reduction in the already low consumption level of the population could avert insolvency. In fact, the GDR industry only reached a third of the productivity in the West.

Now the objection is made that the GDR failed because of its bureaucratic-autocratic system and that this was not "true socialism". But are things going better in other countries with a planned economy? And what is the connection between political and economic freedom? The empirical research shows impressively how closely democracy and market economy are connected with prosperity. The work of MIT economist Daron Acemoglu is prominent. One of his most recent works, which has just appeared in the "Journal of Political Economy", is entitled "Democracy does cause growth". One can argue about which country can be called a democracy in which year. Many earlier indicators do indeed have weaknesses because they cobble together sub-indicators such as freedom of the press or free elections with arbitrary weights to form indicators of democracy. The new work by the author Klaus Gründler and Tommy Krieger from the University of Konstanz therefore use new methods of "machine learning", which are currently widely used in research on artificial intelligence in dealing with big data.

On the basis of the new data for measuring political institutions, for example (see graphic), the gross domestic product (GDP) per capita in democracies has grown by an average of 2.32 percent and in non-democracies by 1.90 percent over the past five and a half decades. This finding is based on a data set for 148 countries for the period 1960 to 2014. The difference in growth rates between democracies and non-democratically governed countries is statistically significant. The graphic shows descriptive statistics that do not necessarily require causality. However, empirical work using new econometric methods suggests that democracy has a causal effect on economic growth. While some non-democratic countries, such as China, have also achieved impressive economic growth, strong economic growth is far more likely and more common in democratic countries.

Stable democratic institutions go hand in hand with economic freedom. Restricting property rights is often the first step in undermining democracy. The development in Venezuela is an example of this. If the state is given the power to decide on the distribution of scarce resources, economic and political power is bundled in one instance. An economically planned economy cannot endure democratic contradiction, which is why democratic principles and freedoms are being undermined. Conversely, there is a connection between a market economy and democracy.

There is relevant empirical evidence for this argument, which the Nobel Prize winners Friedrich von Hayek and Milton Friedman put forward in the last century (see Lawson and Clark, Examining the Hayek-Friedman hypothesis on econmic and political freedom, "Journal of Economic Behavior and Organization") , 2010). In the dataset of the 148 countries described, property rights are significantly stronger on a scale from 1 (no protection) to 5 (high protection) in democracies with an average value of 4.5 compared to 2.6 in non-democracies. The protection of property is also closely related to higher economic growth (see graphic).

There are other reasons why democracies are more prosperous than autocracies: Citizens in democratic countries are generally better educated than in non-democratic countries. This is particularly true of primary and secondary education, which lays the most important foundations for individual prosperity. In addition, studies show that citizens in democracies live longer than in autocracies and that child mortality is lower.

Against the background of the bold Juso proposal, it seems useful (necessary for some) to remember what the tasks of the state are. In the social market economy, the state should first of all take action where the market fails. This is the case, for example, with public goods such as transport infrastructure, national defense and the justice system. There is also consensus in the social market economy that the efficient provision of goods is not everything. "Efficient" does not always mean "fair". That is why we have tax and social security systems that redistribute income. The state has the important task of supporting disadvantaged citizens and those in need. As an entrepreneur, however, the state is definitely no better than its citizens.

Klaus Gründler and Niklas Potrafke teach at the Ludwig Maximilians University in Munich and work at the Ifo Center for Public Finance and Political Economy.